CALIFORNIA INDUSTRIAL MARKET
ORANGE COUNTY
Orange County’s industrial market remained a seller’s market in the second quarter, with buyers finding quality buildings in short supply.
Demand from companies looking to take advantage of low interest rates and investors seeking a more solid investment than the stock market has created a competitive selling market, which will help give the market durability.
Low vacancy rates and disciplined construction activity is putting the industrial sector in good position for when economic confidence stabilizes.
The OC industrial vacancy rate decreased from 8.7% to 8.6% during the second quarter. North County and West County continued to outperform other OC markets.
West County was the healthiest market during the second quarter with a vacancy rate of 5.6%. South County posted the highest vacancy rate at 11.9%.
There was a slight decrease in sale and lease activity in the second quarter, versus the previous quarter. Sale and lease activity was 2.6 million square feet, with North County accounting for 40% of the total.
Market Assessment
Leasing activity increased by 12% from last quarter, with most of the deals in the 10,000- to 40,000-square-foot range. There was just one lease transaction in the second quarter for space greater than 100,000 square feet.
Orange Courier Inc. leased 129,600 square feet in the city of Santa Ana near John Wayne Airport.
A lot of activity in the second quarter stemmed from a continued surge in sales as buyers sought to take advantage of record low interest rates.
Activity continued to be concentrated in industrial buildings ranging from 5,000 to 30,000 square feet, which made up 40% of total activity.
Another continuing trend in the county’s industrial sector is the growth of small buildings for sale. Increased demand for smaller purchase requirements has created an increase in construction activity to meet the demand in this size range.
There are about 15 small freestanding development projects with buildings ranging from 5,000 to 14,000 square feet. The majority of these projects are in South County.
The unemployment rate in OC was 3.9% in June, up from a revised 3.7% in May. This compares with the state’s unemployment rate of 6.7% and 6.5% for the nation.
Total nonfarm payroll rose by 3,100 jobs in OC in the quarter. Job sectors that directly affect the industrial market, such as manufacturing and durable goods, recorded an increase of 200 jobs in the period.
Overall, OC continues to perform well in job growth and unemployment compared to other regional and national markets.
Challenges
Challenges for landlords will continue to be the competitive supply of both direct and sublease space, highly competitive concessions and falling rent.
And landlords will continue to be extremely aggressive to secure tenants who have many real estate options.
From an economic standpoint, challenges for tenants are linked to the slow economic recovery, and they are forced to decide whether relocating is a wise choice.
Opportunities for sellers will continue to be high demand from buyers and rising sale prices. Investor demand for industrial properties, particularly those leased on a triple net basis to credit tenants, remains very strong.
But the main challenge for investors continues to be sourcing suitable opportunities.
Forecast
The industrial sales arena is anticipated to remain active through the rest of the year.
The low cost of borrowing capital has the potential to generate long-term economic savings for companies buying buildings versus leasing similar facilities.
However, the lack of quality buildings offered for sale likely will continue to challenge potential buyers.
In addition, strong demand is forecasted to sustain industrial prices through the end of 2003.
While some economists believe that businesses will initiate long-term spending and hiring plans, others fear that business investment won’t begin until consumer demand shows dramatic improvement.
It is generally agreed that increased business capital spending, including expanding payrolls, is needed to jump-start the economy.
Once business investment grows, this will likely translate to greater demand for additional real estate holdings, which would ultimately impact OC’s industrial market.
INLAND EMPIRE
The Inland Empire industrial market held steady during the second quarter, despite the myriad of statewide political and economic adversities.
This dual-county economy,San Bernardino and Riverside,also has slipped slightly from its robust records of the past few years but still was able to attract healthy interest from tenants and speculative developers alike.
Vacancy rates remained tight at just under 8%.
At 8.8 million square feet, overall activity surpassed the prior quarter’s mark of 6 million square feet in transactions.
Construction of 8 million square feet of new building space led the state again and almost doubled its total of 4.5 million square feet a year ago.
From smaller industrial buildings for sale to large distribution centers for lease, tenants and investors migrated to the area from all directions and shed light on the Inland Empire’s invaluable secret: location, location, location.
The recent reuse projects of former military bases and the availability of big parcels of land to the east lured several more national retailers in a trend that will continue through the end of the year.
Signing deals as large as 1.2 million square feet, companies are intent on moving their industrial operations to Southern California’s most central location.
Investors can’t help but notice the region’s ability to bear fruit during dry seasons, yielding several large institutional deals.
Market Assessment
Whether it’s the abundance of low-cost land, the opportunity to expand and still minimize operating expenses, or the dynamic transportation infrastructure, national retailers and manufacturers migrated in a flood of transactions to the Inland Empire.
Mattel Inc. finalized built-to-suit plans for a 1.2 million-square-foot regional distribution facility in San Bernardino’s Alliance California industrial park.
Wickes Furniture Inc. leased 573,000 square feet in Rancho Cucamonga to serve as its West Coast distribution headquarters. Prominent companies such as Kellogg Co., Black & Decker Corp., Wild Oats Markets Inc. and Krispy Kreme Doughnuts Inc. all closed large leases on warehouse and distribution sites.
With cities such as Riverside offering utility discounts for these big tenants, companies can’t help being lured by the region’s resilient market and profitable operating amenities.
Local market investor activity drew increased interest from institutional players wanting to step up their investments while diversifying their portfolios.
The 1.2 million square feet of occupied space that changed hands in the second quarter justifies that investors believe the Inland Empire’s commercial property market has emerged from a downward cycle and is recovering.
Bay West Equities supported this belief by buying Colton’s 439,000-square-foot Cooley Ranch Industrial Park. And a Laguna Beach-based investor purchased the 89,000-square-foot Temecula Corporate Centre,a response to the steady housing and commercial market expansion in the city.
As firms struggle to find low risk investment opportunities with high returns, the Inland Empire will continue experiencing increased investment activity this year.
Construction of new space was not isolated to only large warehouse product.
Projects less than 30,000 square feet in size accounted for nearly a quarter of the second quarter’s 8 million square feet of construction activity.
With the region’s smaller space inventory posting a tight 5.6% vacancy rate, more than 2 million square feet of additional buildings broke ground to boost supply.
Potential users are attracted to these projects by low interest rates and the possibility of averting leasing hassles.
Ontario’s Gateway Business Center supported this popular trend, experiencing heavy preleasing and sales activity.
Along with Ontario, the cities of Corona, Riverside, Fontana and Temecula all have broken ground on similar developments and are already having healthy user interest.
Forecast
Backed by the ability to offer alluring incentives, rates comparably lower than other markets and a strengthening regional population, the Inland Empire will proceed forward with solid growth to the end of the year.
Though the region’s job growth is slated at 2.5% in 2003, it still will outperform Southern
California’s other counties, particularly Los Angeles’ expected growth of 0.4%.
Tenant and users searching for large distribution and manufacturing opportunities will sustain momentum while companies, adopting a wait-and-see mode, will react to this quarter’s positive trends and seek out new space.
Smaller buildings will continue seeing large demands for additional space if interest rates remain low for the rest of the year.
The abundance of new space will restrain asking rates from escalating too drastically and moderate vacancy rates as Inland Empire cities vie for companies migrating to the area.
LOS ANGELES
During the first half of the year, industrial sale and leasing activity in Los Angeles County dipped by 4.4% versus the same period last year.
Still, the overall slowdown in the economy and the decline in industrial activity didn’t stop major developers from breaking ground on new projects.
Industrial space under construction was up 67% from the same quarter last year. Although overall activity has been weak, especially on the leasing side, sale activity through the end of the year should be a healthy portion of the overall activity,as long as interest rates hold steady.
With close to half of the industrial buildings available for sale, developers are banking on it.
The focus is on buildings for sale in the 10,000- to 40,000-square-foot range, which are in short supply.
With the increase in construction activity pointing to the depletion of developable land, new construction may not be able to meet future demand.
Unsolicited offers to buy existing properties have become normal practice.
Challenges
The industrial real estate market in Los Angeles has always been more stable than the office market.
Despite the economic downturn of the past couple of years, the Los Angeles industrial market has continually outperformed that of the nation.
So what keeps the Los Angeles industrial economy moving? International trade.
Los Angeles has the ports in its back yard, representing 259,000 jobs in Southern California (one out of every 24 jobs) and $8.4 billion in wages.
Industrial developers in L.A. County see the potential in the region and continue to break ground on projects that once were put on hold.
Construction activity in the county has increased by more than 3 million square feet since the end of 2002.
Across the county, many opportunities exist for businesses looking for class A space.
In the South Bay, Goldrich & Kest Development broke ground on a 418,344-square-foot industrial building.
Lennar Partners and Low Real Estate Group broke ground in the South Bay on the Hamilton Gateway Center. This development has 14 buildings totaling 123,104 square feet,all available for sale.
In Central Los Angeles, Sares-Regis broke ground on the Pico Rivera Commerce Center and Overton Moore on the Citadel Business Center.
In the North, Opus West has broken ground on two buildings totaling 212,600 square feet.
Another major development in North Los Angeles is the Commerce Center at Van Nuys Airport by Nearon Enterprises. And at the other end of the county, construction is still under way on Bloomfield Business Center in Santa Fe Springs.
With more than 7 million square feet of industrial building,much of it in small buildings offered for sale, soon entering the market, and interest rates remaining attractive to own versus leasing, it’s a challenge for landlords to lease smaller industrial spaces.
This slowdown will maintain pressure on lease rates and higher concessions.
There aren’t enough prospective tenants on the horizon to put upward pressure on asking rents.
The fact is that many lease negotiations result in deals well below published lease rates.
Although asking rates may seem to hold steady, effective rates are slacking. In many instances, buying buildings results in a lower occupancy cost than leasing.
These factors combined with the decline in the stock market have created a huge flow of users and money into the buying market.
Forecast
War in Iraq is just one of the variables that worked against a recovery. With weak economic conditions and sales being at best flat, many companies haven’t been willing to hire new employees, let alone consider expansion.
Another obstacle has been SARS, which has had an impact on trade.
The downturn in the economy had many U.S. factories shifting their production overseas to countries with inexpensive labor pools such as China, South Korea and the Philippines.
Panasonic recently moved its manufacturing from China to Tijuana, Mexico, for mainly economic reasons.
To boot, it has begun distributing its electronics from the border.
The impact was felt in the South Bay where 400,000 square feet of warehouse and distribution space was vacated.
In lieu of traveling overseas, importers are now relying on alternative ways of doing business, such as videoconferencing, which has hurt the business travel industry.
